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3 Essential Metrics in Calculating Profit Margins


It's time to calculate your profit margins so you know which products to keep, which to dump, and which need major adjusting. Many data points go into figuring out your exact profit margin, but these 3 metrics represent the most important parts of your accounting calculation.

1. Your net profits.

You don't want to bother too much with your gross profit off of a product since that doesn't take into account the many expenses that made that sale possible. Your net profits look at the price you sold the product at, minus expenses such as the original inventory cost, marketing, administrative, building overheads, and other associated costs. If you don't include all direct and indirect costs that go into the cost of a product, you may end up losing money on an item that seems like a best seller at first glance. Calculating your net profits on a frequent basis helps you avoid your business bleeding money.

2. Sales volume.

You might have a relatively low profit margin on a particular item, but that doesn't tell the whole story. If you're moving millions of units of something that has a low profit margin, it can add up quick compared to other items that appear more popular on paper. Take a look at the big picture when you're deciding which products are your most profitable and the influence of loss leaders on your overall sales. Your employee costs should also be considered, particularly for specialty products that require a specialist for sales or demonstrations. The employee's wage or salary, plus associated financial benefits, all factor into the ultimate profit margin for a product.

3. Returns.

You sell plenty of units, but you find out a manufacturing error results in a significant portion needing replacement. Returns, replacements, and repairs also affect the profitability of your products. Look into tracking the actual cost of replacement or repair when you set up your inventory ordering for the next quarter. If you are losing units left and right, that top of the profit margin item may actually be closer to the bottom.

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